U.S. – China Trade Relations

Sky-High Demand for Global Trade

A significant number of headlines have appeared over the past few weeks discussing U.S. and China relations. Topics range from authority in Hong Kong, military mobilization in Taiwan, the origins of the COVID-19 pandemic and accusations of state-sponsored hacking on behalf of China’s government. We want to cut through those headlines to help you understand the current state of business and trade between these two adversaries. As is often the case with U.S. – China relations, the situation is fluid and policies can change instantly—but neither side wants to see a reduction in the sky-high demand for global trade.

Last year, trade between the two nations spiraled downward as factories around the globe were shut down. This year, Americans with pent-up demand are spending in part from excess savings, government stimulus, and new (online) shopping habits, creating a surge in demand for Chinese goods. China has also seen a significant uptick in demand for U.S. equipment and commodities. Both economies appear to be holding off on further tariff negotiations meaning that companies are absorbing the excess tariff costs for now. Tariffs are not having any meaningful effect on the flow of goods in either direction as companies are focused on fulfilling inventory to meet demand.

Our expectations, and those of many economists, are that the pace of U.S. GDP growth will continue to be strong and at an above-trend rate through the back half of the year. GDP growth this year is expected to average 6.6%, the second-best year since 1966.¹

U.S. Imports of Goods from China vs U.S. Exports of Agriculture Goods²

U.S. Imports from China Continue to Rise

U.S. ports are stuffed with cargo ships as an influx of mainly retail goods, like back-to-school and even Halloween and Christmas goods, arrive in anticipation of a continued reopening and above-average demand through the second half of 2021. In fact, half of the $259 billion in goods in the largest U.S. port, which is in Los Angeles, is from China or Hong Kong.³ Many retailers are filling inventory levels depleted due to cost management practices during the pandemic shutdown.

In May, total imports rose by 5.83%. The U.S. spending on goods from China was highest on computers, cell phones, and childrens’ toys; furniture parts, seats, and exercise equipment represented the top three imports by weight.⁴

Tariffs remain in place on over $300 billion of goods imported from China.⁵ Rather than finding new producers, domestically or elsewhere, American corporations are absorbing the cost with the intention of passing it on to consumers or facing margin pressure; while tariffs are slightly improving the trade deficit with China, they have harmed both American consumers and company profits. A joint study between researchers from the Federal Reserve Bank of New York and Columbia University showed that the trade war resulted in a decline in consumer well-being by 7.8%.⁶

U.S. Exports to China Also Continue to Rise; Focus on Agriculture

While the United States is slowly reducing total exports, China is one of the few countries demanding more U.S. goods. The export of goods to China has grown by a CAGR of 19.6% between 2011-2020, while exports to the rest of the world have fallen an average of 6% each year.⁷ In 2020, the largest categories of goods exported to China were oilseeds and grains, semiconductors, oil and gas, motor vehicles, and navigational/measurement instruments, with Texas and California being the largest exporters.⁸

An industry that we expect to capitalize on growth from high Chinese demand is agriculture. Driven by high demand for hog feed, total exports to China of soybeans, corn, and grain sorghum have increased 368% YTD versus the same period in 2020.⁹ Between January to May, China’s imports of dairy products grew 17%. China is the second largest importer of American dairy products after Mexico, and total exports through May 2021 are up 75% YoY.¹⁰ The Phase One trade agreement between Trump and China set goals for strong trade back in January 2020, but neither side is paying much attention to the basic outline.

Even though demand from China is growing, the United States remains vulnerable within a rolodex of China’s trade partners. In 2020, China was the third largest importer of U.S. goods after Canada and Mexico, but the United States trailed the EU, Taiwan, Japan, and South Korea in total exports to China.¹¹ In the goods market, U.S. exporters, especially in the agricultural sector, appear increasingly dependent on Chinese consumers to drive business growth. We’ve already picked up on a number of U.S. companies reporting double-digit growth in organic sales internationally, driven by Chinese demand.

China’s Internal Crackdown Concerns Markets

China’s business policies have shocked markets throughout this month. At the beginning of July, China cracked down on technology companies considering external fundraising. Then, they cracked down on the online education sector by creating regulations which “ban companies that teach school curriculums from making profits, raising capital, or going public” among other restrictions/oversight.¹² This week, China announced a crackdown on property industry practices and is looking to “improve order” in the property market.¹³

Earlier this month, China also surprised markets when it decided to cut reserve requirements for banks.¹⁴ Reserve requirements are typically reduced when extra loans are needed from banks to support businesses in times of economic cost pressures or declining revenues. The market and media appear to have believed the reserve cut was in response to commodity price increases – China is a major importer of commodities. While this is probably true, it also likely has to do with China’s more overarching goal of encouraging small businesses to grow and compete.

Higher industry scrutiny by the Chinese government and other economic weaknesses being brought to the surface by rising inflation have resulted in a sense of fear from outside investors. The Hang Seng index is down (14.35%) over the past month and the KraneShares Hang Seng Tech Index ETF is down (23.40%) MTD as of this writing.¹⁵ There is also the theory that the crackdown will have long-run benefits for China’s economy, by reining in power of monopolies and eliminating unfair industry practices, which would promote growth of small business.¹⁶ This isn’t so different than what the White House appears to be attempting to accomplish with their anti-trust agenda. So, while China’s stock market has seen a deep correction coinciding with the government crackdown, the shakeup could result in stronger competition and future growth.

Implications of U.S. – China Relations on U.S. Companies

The S&P 500 derives nearly 7% of total revenues from China, and that number is growing as many companies focus internationally for opportunities.¹⁷ Trade with China represents nearly 14% of total U.S. trade.¹⁸ U.S.-China relations can either make you want to sit back with a bag of popcorn or dive into an extensive history of political regimes. However you choose to understand the interactions between the working adversaries, the benefits of trade cannot be ignored for either side, and there are far-reaching implications on how they do business.

Stephanie Link: CNBC TV Schedule

Sources

1. Bloomberg
2. FactSet
3. Bloomberg
4. US TradeNumbers, WorldCity
5. Bloomberg
6. Forbes
7. US-China Business Council
8. US-China Business Council
9. CoBank
10. USDA Foreign Agricultural Service
11. US-China Business Council
12. Bloomberg
13. Bloomberg
14. CNBC
15. FactSet
16. Bloomberg
17. FactSet
18. United States Census Bureau

Disclosures

Investment Solutions at Hightower Advisors is a team of investment professionals registered with Hightower Securities, LLC, member FINRA/SIPC, & Hightower Advisors, LLC a registered investment advisor with the SEC. All securities are offered through Hightower Securities, LLC and advisory services are offered through Hightower Advisors, LLC. This is not an offer to buy or sell securities. No investment process is free of risk and there is no guarantee that the investment process described herein will be profitable. Investors may lose all of their investments. Past performance is not indicative of current or future performance and is not a guarantee. In preparing these materials, we have relied upon and assumed without independent verification, the accuracy and completeness of all information available from public and internal sources; as such, neither the information nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. Hightower shall not in any way be liable for claims and make no expressed or implied representations or warranties as to their accuracy or completeness or for statements or errors contained in or omissions from them. This document was created for informational purposes only; the opinions expressed are solely those of the author, and do not represent those of Hightower Advisors, LLC or any of its affiliates.